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Viable alternative to higher interest rates

By Jill S. Farrell
web posted June 28, 2004

John Adams once told Thomas Jefferson, "All the perplexities, confusion and distress in America rise... from downright ignorance of the nature of coin, credit and circulation." There seems to be room for improvement in that statement. The word "all" is a bit strong, but not by much.

In the infamous "malaise" speech, President Carter spoke of "a moral and a spiritual crisis... a crisis of confidence... a crisis that strikes at the very heart and soul and spirit of our national will... We can see this crisis in the growing doubt about the meaning of our own lives and in the loss of a unity of purpose for our Nation."

America in the 1970s fell into the Marianas Trench of pessimism largely due to the Carter Administration's inept tinkering with the economy. Inflation went from 5 per cent in 1976 to a whopping 13 per cent in 1979. Everything was becoming more expensive. Business was stagnating. People on fixed incomes were certainly in a fix. Families worried that their paychecks would not keep pace with prices.

No wonder the leadership of Ronald Wilson Reagan was so refreshing. His words were drastically different: "...with all the creative energy at our command, let us begin an era of national renewal. Let us renew our determination, our courage and our strength. And let us renew our faith and our hope. We have every right to dream heroic dreams."

Inflation is returning...at least to some extent. When this happens, interest rates will go up. Fed officials promised to increase interest rates slowly, but a recent acceleration in inflation has them dithering as to whether interest rates might have to rise more sharply if inflation proves stronger than they first anticipated.

The economy cools off when the Fed raises interest rates. Higher interest rates cause consumers to consume less - retail goods, homes, etc. - prices stabilize.

The coming inflation will drive interest rates by reducing the buying power of the dollar. Say you are a bank and you make a loan at 5 per cent today. In a stable economic year, you can expect to make a certain profit. In an inflationary year, your profit will be reduced because your cost of doing business - everything from paper to electricity - increases. Interest rates will go up to compensate for the difference.

Economic prosperity can be the parent of an awfully ugly baby called inflation. Money loaned now won't buy as much or do as much in an inflationary atmosphere. Who is going to pay? You and I are going to pay. Just as a rising tide raises all ships, the more inflation we have, the more expensive money will become for everyone.

If the inflation stays around three percent, it won't affect today's average consumer very much. As long as we don't get too loosey-goosey with the money supply, we will be fine. (The money supply is like your favorite snack. When it's abundant, it sure is fun and it makes you feel good for a while. Inevitably there is a price to pay...for snacks, it is extra weight...for the money supply, it is additional inflation.)

After 9/11, when the private sector was timid, the Bush Administration gave us a little Keynesian anti-recessionary economic boost by increasing government spending to stimulate the economy. Not a terribly popular move with fiscal conservatives, but done is done. Now that private investors are getting a little rambunctious, the government is more likely to reduce our purchasing power through higher interest rates than reducing their own spending.

Do I have your attention? I said a reduction of government spending is a viable alternative to higher interest rates! Continued governmental stimulation of a growing economy is like caffeine in a growing child. Pretty soon it's running around rampant, causing all kinds of trouble. In the case of our economy, that means inflation. The Fed typically fights inflation with higher interest rates.

At the very least, reductions in federal spending can make the difference between a slight increase in interest rates and a very uncomfortable spike. If inflation is the ugly baby, government pork is its overbearing sibling. If interest rates go up drastically, in a truly non-partisan manner, they will negatively affect every man, woman and child. Getting rid of redundant, old and useless programs will benefit us all.

Want a winning Party platform plank? Let's take an even-handed approach to the reduction of federal spending! The Republican Party should seriously consider adding the Commission on the Accountability and Review of Federal Agencies (CARFA) Act - Brownback-Tiahrt, S. 837 and H.R.3213 - to its platform!

CARFA will "establish a commission to conduct a comprehensive review of federal agencies and programs and to recommend the elimination or realignment of duplicative, wasteful, or outdated functions..." It's not the entire answer to our spending problems, the appropriations process should also be reviewed, but CARFA is a good start down a politically uncomfortable but oh-so-necessary road.

An independent commission can give politicians the room to do what desperately needs to be done. CARFA proposes a Base Realignment and Closure (BRAC)-type commission that can force Congress to vote straight up or straight down on its list of recommendations in their entirety! This will prevent the congressional logrolling that normally protects spending.

I am willing to wager that the reason the Administration cannot get the traction it deserves on its recent wonderful economic successes - and there are many - is that an unfriendly media is waiting, like circling carrion birds, for the rest of the economic news (e.g., inflation and interest rates). The media will not focus on triumphant economic growth. They will focus on its negative byproducts. People who wish to damage this Administration will sing that portion of the issue to the highest hills. They're counting on Republicans to protect sacred cows, oxen, Holy Grails and favored pork. They are hoping that Republicans will dodge this issue.

Republicans should admit that they know what's coming. Trumpet the fact that this is the fastest growing economy in 20 years, that wages are on the rise, that manufacturing is up and that there is a viable solution to soften the inevitable rise in interest rates. Say the entire situation is well in hand. Let the voters know that the party is ahead of the curve and ready with a workable solution. Make a firm commitment. Make CARFA a party plank. As a matter of fact, both parties should make CARFA a party plank, then the whole country wins!

Jill S. Farrell is Director of Communications for the Free Congress Foundation.

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